1/18/2006 @ 12:00PM

Is Ben Bernanke A Conservative?

Democratic Sen. Charles Schumer and other well-known liberals have applauded President George W. Bush‘s choice of Ben Bernanke as U.S. Federal Reserve chairman. Should that raise red flags for conservatives? Is Bernanke really a liberal? Has Bush made another mistake?

Perhaps this is the wrong question. Isn’t the Federal Reserve meant to be independent of politics, an agency of technicians charged with choosing the best policies for all Americans? A host of journalists believe his academic work has been apolitical.

Edward Gramlich, who was appointed to the Fed board by President Bill Clinton and recently retired, reassures us: “There’s a good consensus on monetary policy…and it doesn’t really matter whether people come with an ‘R’ or a ‘D’ on their backs.”

But is this true? It does sound suspiciously like what used to be said about judges: that they should be impartial and do the right thing. Is it reasonable to expect the same kind of Fed chairman from either a Bush or a John Kerry? And what are Bernanke’s political beliefs? Surely he has revealed some, apart from being a registered Republican?

One way to approach this is to look at Bernanke’s work in his previous career as a Princeton economist. He was a specialist in the history of the Great Depression, and to some extent views on the Depression can be taken as a proxy for one’s political beliefs.

Most people, certainly Democrats, think that free markets ran amuck, leading to the Great Depression and that President Franklin D. Roosevelt and the government came to the rescue. Many conservatives sharply disagree. In their eyes, government got us into the depression, and more and more government intervention just deepened it. Bernanke’s writings are complex but generally side with the pro-Roosevelt view–that government needs to keep the economy out of trouble.

Conservatives as a general rule extol free markets and are therefore skeptical of central planning and government economic leadership. Carried to its extreme, this might mean abolishing the Fed in favor of a gold standard and the kind of “free” banking we had in the 19th century. At the very least, a conservative would want the Fed chairman to lead with a light hand, to let markets as much as possible sort out interest rates and the money supply.

Bernanke does not agree with this. In speeches delivered in 2003 and 2004, he suggested that monetary policy should not be on autopilot, that the Fed should firmly guide the economy based on its own forecasts, notwithstanding the poor record of published Fed forecasts over the years. In a celebrated speech at the end of 2002, he suggested that the Fed should be prepared to take control of the bond as well as the money market if necessary to avoid a deflation. He even went further. Noting that the Fed lacks legal authority to take control of the private securities market, he suggested ways that this could be done indirectly. In the context of monetary policy, this was very “red meat.” Some critics saw in it a new American Gosplan.

Conservatives also have their doubts about government economic regulation. Former President Ronald Reagan in particular wanted less of it. Yet when asked in 2002 and again in 2004 about ways to prevent economic bubbles, Bernanke suggested additional regulation.

Conservatives also generally like what they call “sound” money. This means that government must restrict the money supply to ensure that inflation does not steadily eat away at the value of the dollar. Since the formation of the Fed, money has, in fact, not been very “sound.” The dollar has lost 95% of its purchasing power. Even since former Fed Chairman Paul Volcker declared war on inflation in the late seventies, prices have doubled.

On one level, Bernanke sounds reassuring about inflation. He has been quoted over and over again emphasizing the importance of price stability. But he has also spoken of making “helicopter drops” of new money if necessary to avoid deflation and has generally defined price stability not as zero inflation but rather as low inflation. In the same 2002 speech cited above, he said: “The U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost…to…generate…inflation”. All true no doubt, but odd coming from a Fed official and not reassuring to inflation hawks.

Bernanke not only defines price stability as low inflation. In addition, he would like the Fed to “inflation target,” that is, to set a desired level of inflation and “print” as many new dollars as necessary to avoid anything lower. This policy has many admirers, including the respected bond manager Bill Gross, who thinks that it would keep bond yields lower than they otherwise would be. Some conservative critics, however, contend that inflation targeting is illogical.

The purpose of capitalism, they say, is to bring prices down so that more and more people can afford to buy what they need. If a highly productive economy keeps reducing the prices of goods and services, why does the overall price level keep going up? It is only because government subsidies increase demand in some sectors (health care, housing, education, etc.), government regulations simultaneously reduce supply in the same sectors, and the Fed finances the resulting inflation.

One of the worst results of this is that soaring health care costs directly hit employers and thus create unnecessary unemployment. All things considered, wouldn’t it make more sense to hope for mild deflation (prices declining 1%-2% per year) rather than mild inflation (prices rising 1%-2%)?

In the 1930s and 1940s, Friedrich Hayek was the leading “conservative” and Keynes the leading “liberal” economist in the English-speaking world. The former thought that recessions and depressions were primarily caused by the Fed “printing” too many dollars in the preceding boom, and that “printing” more dollars to pull the economy out of a slump was like trying to cure a hangover with more alcohol. Keynes thought just the reverse.

On occasion in the past, Bernanke has made it clear that he basically follows the Keynesian policy paradigm, even at a time when that view has lost much of its luster in academe, and some contemporary heirs of Hayek are vigorously challenging it.

Monetary policy is complex, sometimes intentionally so. For example, when the Treasury sells a government bond in the private bond market, but the Fed buys back the same bond with its newly created money, that is exactly as if the Treasury had just run off new dollar bills in the first place, but we are not supposed to know this. Given the complexity, it is often hard to say who is on what base. Is Bernanke a conservative? Conservative senior statesman Bill Buckley has called his appointment “astute,” so perhaps he is. But then, conservatives as a group do not seem to have decided exactly what they want in monetary policy.

Hunter Lewis is the co-founder of global investment firm Cambridge Associates and author of five books on economics and related subjects.